Chapter 16 Notes Payable and Notes Receivable

Question 1

Interest - is the fee charged for the use of money.

Answer 1

Interest = Principal x Rate x Time

Interest on the note in Figure 16.1 is $80 ($4,000 × 0.08 × 90/360).

Question 2

Discounting:

Answer 2

Often, however, the bank deducts the interest in advance, and the borrower receives only the difference between the face amount of the note and the interest on it to maturity. This practice of deducting the interest in advance from the principal on a note payable is called discounting. (Deducting the interest from the principal on a note payable or receivable in advance.)

Question 3

Payee:

Answer 3

person or business to whom the note is payable.

Question 4

Note Receivable:

Answer 4

which is an asset that represents a creditor’s written promise to pay a specified amount at a specified future date.

Question 5

Annual Percentage Rate (APR):

Answer 5

Some lenders charge lower interest rates but add high fees; others do the reverse. The APR allows you to compare them on equal terms. It combines the fees and interest charges to give you the true annual interest rate.

Question 6

the note is said to be “dishonored”:

Answer 6

Dishonored notes do not belong in the Notes Receivable account. If John Woods dishonored the original $1,200 note, the entry to transfer the balance out of Notes Receivable and back to Accounts Receivable.

Question 7

Note that Woods now owes the original balance of $1,200 plus $20 interest on the note. After a note is dishonored, interest continues to accrue on the note. The interest rate is usually specified by law. In most cases, it is higher than the rate shown on the note, although the parties may agree on a rate different from the statutory rate. Promissory notes usually require the maker to pay attorney’s fees and all other costs incurred by the holder for efforts to collect the note.

Answer 7

Note that Woods now owes the original balance of $1,200 plus $20 interest on the note. After a note is dishonored, interest continues to accrue on the note. The interest rate is usually specified by law. In most cases, it is higher than the rate shown on the note, although the parties may agree on a rate different from the statutory rate. Promissory notes usually require the maker to pay attorney’s fees and all other costs incurred by the holder for efforts to collect the note.

Question 8

Discount:

Answer 8

Maturity Value x Discount Rate X Discount Period

$3000 X 10% X(30/360)

Question 9

Contingent Liability:

Answer 9

A contingent liability can become a liability if certain things happen. Contingent liabilities are shown on the financial statements so that the users are aware that the business might have a liability in the future.

Question 10

Banker’s year:

Answer 10

The time period is indicated in fractions of a year. A 360-day period, called a banker’s year, is used for simplicity to calculate interest on a note.

Question 11

Maturity Value:

Answer 11

is the total amount (principal plus interest) that must be paid when a note comes due. For the note in Figure 16.1, the maturity value is $4,080 ($4,000 + $80).

Question 12

The contra asset account:

Answer 12

The contra asset account Notes Receivable—Discounted appears as a deduction from Notes Receivable.

Question 13

Interest income:

Answer 13

Interest income is classified as nonoperating income.

Question 14

Negotiable instruments include drafts and acceptances.

Answer 14

Negotiable instruments include drafts and acceptances.

Question 15

A Draft:

Answer 15

is a written order that requires one party (a person or business) to pay a stated sum of money to another party. A check is one type of draft. Other types are bank drafts and commercial drafts.

Question 16

Bank Draft:

Answer 16

A bank draft: A check written by a bank that orders another bank to pay the stated amount to a specific party is a check written by a bank that orders another bank to pay the stated amount to a specific party. A bank draft is more readily accepted than a personal or business check. Bank drafts are used to pay debts to suppliers with whom credit has not been established.

A cashier’s check, a draft on the issuing bank’s own funds. Cashier’s checks are sometimes used to pay bills. For the creditor, a cashier’s check offers more protection than a business or personal check.

Question 17

Commercial drafts

Answer 17

A commercial draft is a note issued by one party that orders another party to pay a specified amount on a specified date. Commercial drafts are used for special shipment and collection situations. Commercial drafts may be either sight drafts or time drafts.

Question 18

sight draft:

Answer 18

A sight draft is a commercial draft that is payable on presentation. When a sight draft is issued, no journal entry is made. When a sight draft is honored, the transaction is recorded as a cash receipt.

Question 19

bill of lading:

Answer 19

A bill of lading which is a business document that lists the goods accepted for transportation by a carrier.

Question 20

A time draft:

Answer 20

is a commercial draft that is payable during a period of time. The time period may be a specific date, or a specific number of days either after the date of the draft or after acceptance of the draft.
No journal entry is made when a time draft is issued. If the business honors (pays) the draft, the word “Accepted” is written on the draft and it is signed and dated. The business records the acceptance of a draft as a note payable. It is returned to the drawer, who records it as a note receivable.

Question 21

A trade acceptance:

Answer 21

is a form of commercial time draft used in transactions involving the sale of goods. The original transaction is recorded as a sale on credit. When the draft is accepted, it is accounted for as a promissory note. Merchants have fewer credit losses on trade acceptances than on accounts receivable. Trade acceptances can be discounted.

Question 22

a Note Payable:

Answer 22

A note Payable is a liability that represents a written promise by the debtor to pay the creditor a specified amount at a specified future date.